Samsung’s Other Weakness: Logic Chips

Over the past week, investors, analysts, journalists and the like have all been focusing on Samsung’s less-than-stellar performance from its smartphone business in the second quarter.

Yes, Samsung has been losing market share in smartphones in the global market and even in China, where Xiaomi overtook the company in terms of shipments in the second quarter to much surprise.

But the outlook is also looking murky for its other, lesser-known business – making the microprocessors that are widely used in Apple’s iPhones and tablets. Samsung up until last year had a monopoly on Apple’s supply but earlier this year, Taiwan Semiconductor Manufacturing began shipping them to Apple, according to people familiar with the matter.

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Samsung’s microprocessor business is largely divided into two parts—making its own microprocessors called the Exynos series and supply chips to others by competing with the likes of TSMC and Globalfoundries.

Samsung executives admitted on a recent conference call that the outlook isn’t so bright for this business.

“Sales and profitability from System LSI (logic chip business) worsened as demand from main customers continued to decline,” Robert Yi, Samsung’s head of investor relations said last week. His comments confirmed, albeit indirectly, how Apple’s gradual shift away from Samsung as a customer of microprocessors was eating into its profits.

As TSMC ramps up production, analysts say such a move will continue to hurt the company’s logic chip business this year and early next year. Demand for its Exynos chips also remain weak. Even for Galaxy smartphones, the Exynos chips aren’t a very popular choice, analysts say.

Looking into the third quarter, Yi acknowledged the difficulties the company was seeing in this area, saying that the “System LSI business is expected to remain weak due to continued low demand from customers.” He didn’t elaborate on the company’s customer base.

Ji-ho Pak, vice president for memory marketing, shared the bleak outlook by saying that “earnings improvement in the short term will be difficult due to weak mobile AP (application processor) demand in the high-end mobile segment.”

To counter the expected challenges, Pak said Samsung will focus on improving profitability by expanding sales of other system chips —like image sensors—and work on cost reduction.

IBK Securities analyst Lee Seung-woo recently lowered his earnings forecast for the company’s logic-chip business, saying that he expects the business to post a loss of 877 billion won this year, a sharp reversal from an operating profit of 203 billion won last year. In 2012, IBK estimated Samsung made a 1.0 trillion won profit from logic chips.

Samsung reported a 6% rise in operating profits of 1.9 trillion won from its semiconductor business, most of which is estimated to have come from selling memory-chips. The company doesn’t breakout profit figures for its non-memory chip business. Earnings growth for its chip business slowed to 6% in the second quarter from 82% in the first quarter, though itstill outshined the mobile unit which saw a 30% year-over-year decline during the same period.